Many parents dream of being able to help their children buy their own home. For most of us, it’s a challenge to accumulate a 20 per cent deposit. It can be a lot easier for young people to get a foot on the property ladder when their parents are willing to step in as guarantor.
Buying a home with a guarantor lets the buyer purchase the property with a smaller deposit – say, around five per cent instead of the standard 20 per cent. Depending on the type of loan, the buyer may also be able to borrow the upfront costs of buying a house – stamp duty, valuation, application and legal fees can add up to thousands of dollars – as well as eliminating the need for any deposit at all.
While it sounds great for your kids and may seem do-able from your end, there are significant risks involved and a number of things you need to know before signing on the dotted line.
Benefits of a guarantor role
Deciding to ‘go guarantor’ could potentially save your kids thousands of dollars. If their loan exceeds 80 per cent of the property value, they will generally be charged lender’s mortgage insurance, but this will be waived if you act as their guarantor. As a ballpark figure, a house valued at $500,000 will incur lender’s mortgage insurance equivalent to 3 per cent of the total cost, or $15,000. As most first home-buyers tend to borrow around 95 per cent of the property value, you can see how valuable guarantor help can be.
As mentioned before, being a guarantor also means that your kids don’t need to save up a deposit. Given the value of properties in today’s market, trying to save up the typical 20 per cent deposit as well as the money to cover the upfront costs can be a hard slog. With a guarantor, it’s possible to borrow the entire property value, plus the funds needed to cover the upfront costs. A guarantor role has the benefit of helping your kids enter the real estate market sooner rather than later. When there is enough equity in their home for your kids to refinance the property back to their own name, you can have your guarantor responsibilities removed.
The implications of being a guarantor
If you agree to become a guarantor for your kids, it means you effectively agree to take over the repayments for the loan in the event that your kids are unable to make them. Depending on the type and term of the guarantee, you may be liable for the whole amount borrowed or the amount of the loan that was secured by your own property.
It is vitally important that you seek out independent legal advice about your obligations and any implications of being a guarantor. This is to ensure that you are well aware of what is required of you if the person for whom you’re acting as guarantor fails to meet their obligations.
There are several different types of guarantees you can offer your adult children. These are:
- Security guarantee: The equity you have in your family home becomes the security for your kid’s mortgage.
- Security and income guarantee: The equity you have in your family home secures the property for a son or daughter, plus you guarantee that your income will be used to help the child repay the mortgage until they’re able to do so on their own.
- Family guarantee: Banks use this term to indicate that the person acting as guarantor is directly related to the borrower, either as a parent, grandparent, sibling or other direct family member.
- Limited guarantee: If you only wish to secure a portion of your child’s mortgage, you can set up a limited guarantee. This can reduce the potential liability to you if things go wrong.
Of course, if you also intend to invest for your own retirement as well as helping your kids get into their own homes, you need to be aware that your borrowing capacity could be affected by being a guarantor. In most cases, banks will reduce the amount you can borrow to protect your obligation as a guarantor in case things go wrong.
This article first appeared on Women in the Black.
Shirley Liu is a personal finance writer at Finder.com.au.